south east asian currency crisis


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this doc. describes the causes and consequenses of the currency crisis in the east asian countries.

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south east asian currency crisis

  1. 1. SOUTH-EAST ASIAN CRISISTHE ECONOMIC CRISIS OF 1997-99 OVERVIEWUnfolding of the Crisis (June 1997) 1. Fixed exchange rate system pegged to the USD. When the Dollar rose, consequently the ASEAN currencies grew too, resulting in lower exports. 2. Decline in Export competitiveness particularly in Electrical goods. 3. The decrease in exports resulted in increased Trade and Current Account deficit. 4. The crisis first emerged in Thailand when as a crisis of loan repayment. This led to fears of loan defaults and foreign short-term creditors withdrew funds from Thai financial institutions. 5. The withdrawal of ST credit led to pressure on forex reserves and the value of Baht. The Bank of Thailand in its attempt to save the Baht lost all its Reserves and had to request assistance from the IMF. 6. The contagion then spread to Philippines, Malaysia and Indonesia.ANALYSISCauses of the crisis in 1997There are 2 main theses as to the causes of the crisis.1. Weakness of Macro-Economic fundamentalsThe basic weaknesses in the Macro-Economic fundamentals itself led to Lowproductivity and competitiveness vis-à-vis other regions of the world.Inadequate supervision of Financial institutions and lack of adequate disclosure by thecorporate world further worsened the situation. Weak governments lacked the politicalautonomy or will to enact the deflationary policies necessary to reduce current accountdeficits and domestic asset bubbles. They also contributed to the cronyism and ethicalproblem that encouraged over borrowing, over lending, and over investment in theprivate corporate sector as well as in state projects.2. Overvalued Exchange Rate & Openness of Capital AccountOvervalued exchange rates tied to an appreciating U.S. dollar led to large current accountdeficits and inadequate or declining long-term capital inflows. This resulted in heavydependence on short-term external debt and the depletion of foreign exchange reserves.The Opening up of Capital Account led to local financial institutions over borrowingmore from foreign sources. All this made a currency devaluation inevitable and attractingspeculators eager to benefit from it. Borrowed Short-Term funds were invested in theStock market and in Real Estate. The overall quality of investments declined withreduction investor confidence which was a result of bad news that the export market hadslowed down.
  2. 2. Impact of the crisisThe crisis led to weaker, unstable exchange rates and weakened Financial Institutions. Totackle this, the Government imposed higher domestic Interest rates, which led to aslowdown in manufacturing and industrial activity. This brought about hugeunemployment and an undesirable social impact – on food, healthcare and education. Tomake matters worse, the financial crisis coincided with the worst drought conditions inthe ASEAN region. Since ASEAN is the fourth largest trading block in the world, thespillover effect was on world trade (mainly ASEAN’s trading partners).Proposed Solutions1. Stabilizing the Exchange Rate and Debt ManagementThe idea here is to stabilize the exchange rate. The firms should not be allowed to takeany further debt which would imply Debt Standstill. This would stop withdrawal offoreign lending in the long run. Loans should be rolled over and re-scheduled which willhelp in servicing loans through export earnings rather than fresh debts.Collective re-negotiation of debt should be encouraged and the Provision of WorkingCapital will keep the business activities going. Moreover, the bankruptcy laws need to beput in place and enforced properly.2. Dealing with the Social impactTo deal with the Social Impact the availability of food and healthcare at affordable priceshas to be ensured to prevent the impact to prolong. Private organizations should play amore active role in preventing students from dropping out of school, which will preventthe negative social impact on human resources.3. Strengthening the Financial sectorThe Assurance needs to come that foreign capital will not leave the country at the firstsigns of trouble. Financial Institutions need to be properly regulated with greaterdisclosure and better transparency Norms. Increase in domestic savings has to take placeas it is crucial.4. Adjustment of Industrial StructuresThe Govt. can help companies by increasing access to new technologies, reducingtaxation levels and facilitating finance for investments. One needs to take advantages ofthe integrated ASEAN market for restructuring and look for opportunities withinASEAN.5. International Financial marketsRegulation and control of capital flow should be made to open economies. There shouldbe a surveillance system to monitor flow of capital. Prevention of flight of foreign capitalin key sectors, regulations governing disinvestments should be in place. There is a lot ofneed for specialized Training Institutes in Finance (in the ASEAN region). A Re-look atthe policies of the IMF towards such economies is highly suggested.6. Revitalizing the Financial Markets
  3. 3. The ASEAN mutual monitoring mechanism established in Feb 1998 provides anopportunity for ASEAN Finance ministers to exchange views on status of financial andexchange markets in their countries. One must now use ASEAN currencies for tradeamong ASEAN countries. Moreover the proposed Asian Bond Market can effectivelydeal with flow of debt capital.ASEAN: Steps to Handle the CrisisFour areas where new developments are taking place that are relevant to long-terminvestment decisions.I. The progressive openness of ASEAN economies1) ASEAN economies are on the steady path of liberalization, privatization andderegulation. 2.2) ASEAN is moving toward new forms of linkage with other countries and regions.Examples are the recently initialed Singapore-New Zealand Agreement on a CloserEconomic Partnership and the recently announced start of negotiations on a Singapore-Japan Economic Agreement for a New Age Partnership.3) The process of expanding co-operation between ASEAN and China, Japan and theRepublic of Korea - the process known as ASEAN+3 - is rapidly gaining momentum.These include the joint monitoring of financial and economic movements in East Asiaand in the world and a network of currency swap and repurchase agreements to makeresources available to countries in balance-of-payments difficulties.II Sound Financial measures1) ASEAN plans to adopt sound financial practices and standards by 2003. Capitalmarkets will be deepened, particularly the bond market, to provide a wide variety ofinstruments with longer maturity and ample liquidity.2) Common currency is being given serious consideration3) Capital account liberalization shall be properly sequenced to allow freer flow ofcapitals. At the same time, certain measures can be put in place to reduce the adverseimpact of sudden shift in capital flows.III The growing integration of the ASEAN economy1) Under the ASEAN commitment to AFTA (ASEAN Free Trade Area) more than 85per cent of tariff lines in the AFTA scheme already in the minimal-tariff zone and there isa proposal to abolish all import duties on trade by 2010.2) ASEAN countries are streamlining and harmonizing customs procedures. They areentering into mutual recognition arrangements.3) ASEAN is working towards the development of the trans ASEAN highway system,open-skies regime, and ASEAN Power Grid, Trans-SEAN Gas Pipeline Network andTelecommunications interconnectivity.IV The expansion and diversification of ASEAN
  4. 4. 1) Expansion of ASEAN will give investors more choices in deciding where tolocate their operations for the increasingly integrated ASEAN market or for productionfor export elsewhere in the world.2) ASEAN is making a special effort to upgrade the skills of the people of the newermembers and build their institutional capacity.Some major initiatives taken1. The Manila FrameworkASEAN has come up with new initiatives under the so-called Manila Framework thatincludes(i) ASEAN Surveillance Process: This has been set up to keep an eye onmacroeconomic trends and short-term capital flows. It is something of an early warningsystem to signal possible trouble.(ii) Peer Review in which the ASEAN countries exchange views with one another oneconomic developments and measures being undertaken to address the crises and tojointly formulate policy responses to pending problems.2. The Chiang Mai InitiativeAt the ASEAN Plus Three Finance Ministers Meeting in Chiang Mai in May 2000, oneof the main topics of discussion was how to develop a regional financing arrangementthat could be utilized to maintain financial stability in the East Asian region. At that time,the discussion on the expansion of the ASEAN swap arrangement (ASA) to include allASEAN countries and increase its size to US$1 billion by the ASEAN central banks wasnear its final stage. The ASEAN Plus Three countries decided to combine the expandedASA with a network of bilateral swap arrangements (BSAs) among the ASEAN PlusThree countries to establish the first regional financing arrangement called the "ChiangMai I”REFERENCES ASEAN Economic Co-operation, Adjusting to the crisis By Suthod Setboonsarang, Southeast Asian Affairs ASEAN Economic Integration By Worapot Manupipatpong, Conference on ASEAN into the new millennium Growth after the ASEAN Crisis, What remains of the East Asian Model By Jomo K. S., G-24 Discussion Paper Series Severino Speech SOURCE: ASEAN Secretariat LATIKA CHOPRA